Week in Review…

Last week brought a series of economic indicators that painted a cautious picture of the current economic landscape. On Monday, the Conference Board reported a notable drop in the Consumer Confidence Index for April, which fell by 7.9 points to 86.0 — the lowest level since May 2020. This marked the fifth consecutive monthly decline, underscoring mounting pessimism about future business conditions, employment prospects, and income levels. Also on Monday, the Bureau of Labor Statistics (BLS) released its Job Openings and Labor Turnover Survey (JOLTS) for March, showing job openings held steady at 7.2 million but were down by 901,000 from a year earlier. The stability in job openings and hires, coupled with an unchanged quit rate, pointed to a cooling labor market and heightened caution among workers.

On Tuesday, the Bureau of Economic Analysis published its advance estimate for first-quarter 2025 GDP, which signaled a contraction at an annualized rate of 0.3%. This decline was largely driven by a surge in imports and reduced government spending, reflecting softer consumer demand and tighter fiscal policy. Meanwhile, the Personal Consumption Expenditures (PCE) price index rose by 3.6% in the first quarter, up from 2.4% in the prior quarter, highlighting renewed inflationary pressures and further clouding the economic outlook.

By Thursday, the BLS reported that nonfarm payroll employment had increased by 177,000 jobs in April, while the unemployment rate held steady at 4.2%. In the markets, a generally bullish tone prevailed, buoyed by tentative signs of easing tariff tensions and optimism about potential progress in trade negotiations.

Taken together, these indicators suggest a U.S. economy facing headwinds from both softening consumer sentiment and persistent inflation, with the labor market showing early signs of moderation.

On Wednesday, the Institute for Supply Management (ISM) reported that the Manufacturing Purchasing Managers’ Index (PMI) for March 2025 was 49.5, indicating a slight contraction due to challenges in new orders and production. This follows marginal expansions in February and January after 26 months of contraction. Demand and output weakened, while input costs rose, negatively impacting economic growth. In contrast, the Services PMI showed strong growth with a reading of 56.3, driven by increased business activity.

On Thursday, durable goods orders saw a significant rise, particularly in the aerospace sector, though other areas remained subdued due to economic uncertainties stemming from tariffs. Friday’s final April Michigan Consumer Sentiment was revised upward from the initial print, reflecting better current and future expectations, although it remained at the lowest level since July 2022.

This week’s economic calendar is relatively light, but a few key reports will offer valuable insights into the state of the economy. Highlights include the April ISM Services Index, the March U.S. trade balance, weekly jobless claims, and Q1 productivity figures.

Monday brings the release of the ISM Manufacturing and Services Purchasing Managers’ Index (PMI) data. These indices serve as important barometers for the health of both the manufacturing and service sectors. By tracking activity levels, the data will provide a snapshot of how these sectors are performing, as well as their potential impact on overall economic growth.

Wednesday will be a pivotal day as the Federal Reserve announces its latest interest rate decision. This meeting takes place against a backdrop of heightened uncertainty, particularly in light of recently imposed tariffs. Market participants will be closely watching the Fed’s policy stance to gauge whether interest rates will remain steady or be adjusted in response to these economic headwinds. The Fed’s decision is especially significant, as it will influence borrowing costs, consumer spending, and overall economic activity, shaping the trajectory of the economy amid ongoing tariff-related challenges.

Economic Indicators:

1. CPI: Consumer Price Index measures the average change in prices paid by consumers for goods and services over time. Source: Bureau of Labor Statistics.
2. Core CPI: Core Consumer Price Index excludes food and energy prices to provide a clearer picture of long-term inflation trends. Source: Bureau of Labor Statistics.
3. PPI: Producer Price Index measures the average change in selling prices received by domestic producers for their output. Source: Bureau of Labor Statistics.
4. Core PPI: Core Producer Price Index excludes food and energy prices to provide a clearer picture of long-term inflation trends. Source: Bureau of Labor Statistics.
5. PCE: Personal Consumption Expenditures measure the average change in prices paid by consumers for goods and services. Source: Bureau of Economic Analysis.
6. Core PCE: Core Personal Consumption Expenditures exclude food and energy prices to provide a clearer picture of long-term inflation trends. Source: Bureau of Economic Analysis.
7. Industrial Production: Measures the output of the industrial sector, including manufacturing, mining, and utilities. Source: Federal Reserve.
8. Mfg New Orders: Measures the value of new orders placed with manufacturers for durable and non-durable goods. Source: Census Bureau.
9. Durable New Orders: Measures the value of new orders placed with manufacturers of durable goods. Source: Census Bureau.
10. Durable Inventories: Measures the value of inventories held by manufacturers for durable goods. Source: Census Bureau.
11. Consumer Confidence (CB, 1985=100): Measures the degree of optimism that consumers feel about the overall state of the economy and their personal financial situation. Source: Conference Board.
12. ISM Manufacturing Report: Measures the economic health of the manufacturing sector based on surveys of purchasing managers. Source: Institute for Supply Management.
13. ISM Non-Manufacturing Report: Measures the economic health of the non-manufacturing sector based on surveys of purchasing managers. Source: Institute for Supply Management.
14. Leading Economic Index: Measures overall economic activity and predicts future economic trends. Source: Conference Board.
15. Building Permits (Mil. of Units, saar): Measures the number of new residential building permits issued. Source: Census Bureau.
16. Housing Starts (Mil. of Units, saar): Measures the number of new residential construction projects that have begun. Source: Census Bureau.
17. New Home Sales (Mil. of Units, saar): Measures the number of newly constructed homes sold. Source: Census Bureau.
18. SA: Seasonally adjusted.
19. SAAR: Seasonally adjusted annual rate.

Market Indices & Indicators:

1. S&P 500: A market-capitalization-weighted index of 500 leading publicly traded companies in the U.S., widely regarded as one of the best gauges of large U.S. stocks and the stock market overall.
2. Dow Jones 30: Also known as the Dow Jones Industrial Average, it tracks the share price performance of 30 large, publicly traded U.S. companies, serving as a barometer of the stock market and economy.
3. NASDAQ: The world’s first electronic stock exchange, primarily listing technology giants and operating 29 markets globally.
4. Russell 1000 Growth: Measures the performance of large-cap growth segment of the U.S. equity universe, including companies with higher price-to-book ratios and growth metrics.
5. Russell 1000 Value: Measures the performance of large-cap value segment of the U.S. equity universe, including companies with lower price-to-book ratios and growth metrics.
6. Russell 2000: A market index composed of 2,000 small-cap companies, widely used as a benchmark for small-cap mutual funds.
7. Wilshire 5000: A market-capitalization-weighted index capturing the performance of all American stocks actively traded in the U.S., representing the broadest measure of the U.S. stock market.
8. MSCI EAFE Index: An equity index capturing large and mid-cap representation across developed markets countries around the world, excluding the U.S. and Canada.
9. MSCI Emerging Market Index: Captures large and mid-cap representation across emerging markets countries, covering approximately 85% of the free float-adjusted market capitalization in each country.
10. VIX: The CBOE Volatility Index measures the market’s expectations for volatility over the coming 30 days, often referred to as the “fear gauge.”
11. FTSE NAREIT All Equity REITs: Measures the performance of all publicly traded equity real estate investment trusts (REITs) listed in the U.S., excluding mortgage REITs.
12. S&P U.S. Aggregate Bond Index: Represents the performance of the U.S. investment-grade bond market, including government, corporate, mortgage-backed, and asset-backed securities.
13. 3-Month T-bill Yield (%): The yield on U.S. Treasury bills with a maturity of three months, reflecting short-term interest rates.
14. 10-Year Treasury Yield (%): The yield on U.S. Treasury bonds with a maturity of ten years, reflecting long-term interest rates.
15. 10Y-2Y Treasury Spread (%): The difference between the yields on 10-year and 2-year U.S. Treasury bonds, often used as an indicator of economic expectations.
16. WTI Crude ($/bl): The price per barrel of West Texas Intermediate crude oil, a benchmark for U.S. oil prices.
17. Gold ($/Troy Oz): The price per troy ounce of gold, a standard measure for gold prices.
18. Bitcoin: A decentralized digital currency without a central bank or single administrator, which can be sent from user to user on the peer-to-peer bitcoin network.

This content was developed by Cambridge from sources believed to be reliable. This content is provided for informational purposes only and should not be construed or acted upon as individualized investment advice. It should not be considered a recommendation or solicitation. Information is subject to change. Any forward-looking statements are based on assumptions, may not materialize, and are subject to revision without notice. The information in this material is not intended as tax or legal advice.

Investing involves risk. Depending on the different types of investments there may be varying degrees of risk. Socially responsible investing does not guarantee any amount of success. Clients and prospective clients should be prepared to bear investment loss including loss of original principal. Indices mentioned are unmanaged and cannot be invested into directly. Past performance is not a guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange.

Securities offered through Cambridge Investment Research, Inc., a broker-dealer, member FINRA/SIPC, and investment advisory services offered through Cambridge Investment Research Advisors, Inc., a Registered Investment Adviser. Both are wholly-owned subsidiaries of Cambridge Investment Group, Inc. V.CIR.0525-1784

Week in Review…

U.S. equities rose this week, with the S&P 500 and Nasdaq posting their second-best weeks of the year. Both indices recorded their second weekly gain in the past three weeks following the significant early April selloff. For the week ending, April 25, 2025:

• The S&P 500 rebounded, up 4.59%
• The Dow Jones Industrial Average increased by 2.48%
• The tech-heavy Nasdaq rallied by 6.73%
• The yield on the 10-Year Treasury dipped to 4.24% from last week’s reading of 4.34%, remaining below the long-term average of 5.84%

On Wednesday, the Institute for Supply Management (ISM) reported that the Manufacturing Purchasing Managers’ Index (PMI) for March 2025 was 49.5, indicating a slight contraction due to challenges in new orders and production. This follows marginal expansions in February and January after 26 months of contraction. Demand and output weakened, while input costs rose, negatively impacting economic growth. In contrast, the Services PMI showed strong growth with a reading of 56.3, driven by increased business activity.

On Thursday, durable goods orders saw a significant rise, particularly in the aerospace sector, though other areas remained subdued due to economic uncertainties stemming from tariffs. Friday’s final April Michigan Consumer Sentiment was revised upward from the initial print, reflecting better current and future expectations, although it remained at the lowest level since July 2022.

Market Liquidity: Some Drivers and Potential Paths Forward

In recent weeks, bond markets have experienced a significant decline in liquidity, accompanied by increased price volatility. Yields for fixed income securities across the board have risen, and yield curves have steepened. This repricing reflects a heightened risk aversion among investors, who are now demanding higher returns for lending money to various institutions, including governments, corporations, and households. Several factors contribute to this dynamic, with decreased market liquidity being a key one. While some effects may be temporary, others are likely to persist. The spotlight aims to explore both these aspects.

Current Market Conditions

Currently, market volatility is high, prompting investors to seek safer, cash-like investments. Large fixed income ETFs, which serve as proxies for corporate credit risk, have seen significant outflows, indicating that retail investors are selling in large numbers. The April tax season has also impacted market liquidity. The Treasury’s cash holdings at the Federal Reserve, known as the Treasury General Account (TGA), have increased substantially. From April 9 to April 24, the TGA grew by nearly $300 billion, representing tax receipts from corporations and households. This influx of funds acts as a drain on market liquidity. However, it is expected that much of this liquidity will return to the economy as the Treasury draws on its account to fund sizable government spending needs.

Yield Curve and Dollar Dynamics

Long-term Treasury yields have risen relative to short-term yields, indicating that investors are demanding higher term premiums to lend money to the government. This steepening of the yield curve has coincided with a decline in the value of the dollar against major currencies, leading to speculation that foreign investors might be withdrawing capital from the U.S. However, evidence of this is mixed. The long-term difference between the 10-year and 2-year Treasury yields serves as a proxy for the term premium demanded by investors. As can be seen in the 10-2 spread, the term premium has been depressed (even negative) in recent years. Recently, this term premium has been returning to normal long-term levels, suggesting that the current yield curve movements are not unprecedented.

The Basis Trade and Market Volatility

One source of recent volatility in bond markets is the so-called basis trade. This strategy exploits the liquidity differences between certain types of Treasuries and derivatives like Treasury futures. Investors buy cheaper Treasury securities and use them as collateral for short positions in Treasury futures, creating an arbitrage spread or “basis.” Hedge funds amplify this trade by borrowing money to purchase Treasury securities, maximizing returns. While this strategy is not inherently problematic, its current scale is concerning. Analysts estimate the trade’s notional size to be close to $800 billion, with some estimates even higher. Market volatility can lead to rapid unwinding of these positions, causing liquidity issues and market dysfunction. This was evident in March 2020 when the Federal Reserve had to intervene to stabilize Treasury markets. Recent volatility and liquidity erosion may be partly due to unwinding of the basis trade. Should this trade become a smaller percentage of the Treasury market overall, this could work to undo some of the recent effects we have observed (the opposite is true, as well).

While U.S. bond market liquidity may be structurally impaired, many short-term factors have contributed to recent conditions and are likely to subside in the coming months. These include retail investor sales, reduced Treasury cash balances post-tax season, and unwinding of bearish trades in the dollar and the basis trade. If these effects diminish and term premiums in Treasury markets return to historical norms, fixed income markets could rebound and contribute positively to diversified portfolios. However, the size of the basis trade remains a concern, as it could continue to be a source of volatility in Treasury markets.

Next week, key economic indicators will be released, offering insights into the U.S. economy. The ADP National Employment Report for April will provide a preview of private sector job growth ahead of the official employment report. The Job Openings and Labor Turnover Survey (JOLTS) report for March will detail job vacancies, hires, and separations, crucial for understanding labor market dynamics.

The GDP report for Q1 2025 will show economic activity, with a forecasted 0.4% change for the quarter. The Core Personal Consumption Expenditures (PCE) Price Index, the Fed’s preferred inflation measure, is expected to show a 0.1% change for March, down from 0.4% in February.

The Conference Board Consumer Confidence Index for April is expected to decline from 92.9 to 88.5, reflecting consumer sentiment. Additionally, pending home sales for March will indicate the health of the housing market and the ISM Manufacturing PMI will provide insights into the manufacturing sector’s performance.

This content was developed by Cambridge from sources believed to be reliable. This content is provided for informational purposes only and should not be construed or acted upon as individualized investment advice. It should not be considered a recommendation or solicitation. Information is subject to change. Any forward-looking statements are based on assumptions, may not materialize, and are subject to revision without notice. The information in this material is not intended as tax or legal advice.

Investing involves risk. Depending on the different types of investments there may be varying degrees of risk. Socially responsible investing does not guarantee any amount of success. Clients and prospective clients should be prepared to bear investment loss including loss of original principal. Indices mentioned are unmanaged and cannot be invested into directly. Past performance is not a guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange.

Securities offered through Cambridge Investment Research, Inc., a broker-dealer, member FINRA/SIPC, and investment advisory services offered through Cambridge Investment Research Advisors, Inc., a Registered Investment Adviser. Both are wholly-owned subsidiaries of Cambridge Investment Group, Inc. V.CIR.0425-1719

Week in Review…

Market indexes continued to experience significant volatility as investors adjusted their future expectations in response to increasing global trade tensions.

• The S&P 500 rose by 5.70%
• The Dow Jones Industrial Average increased by 4.95%
• The tech-heavy Nasdaq rose by 7.43%
• The 10-Year Treasury yield closed at 4.49%

Last week was filled with significant economic releases that provided a comprehensive view of the current economic landscape. On Monday, the change in the total value of outstanding consumer credit from the previous month increased by $81 million, indicating a bearish economy. On Tuesday, the American Petroleum Institute reported that U.S. crude oil inventories fell by 1.057 million barrels for the week ending April 4, after a 6.037 million barrel spike the previous week.

The Federal Open Market Committee (FOMC) meeting minutes were published on Wednesday, offering a detailed account of the discussions and decisions made during the latest policy meeting. On Thursday, the initial jobless claims and Core Consumer Price Index (CPI) data were released. The Core CPI for March rose 2.8% on an annual basis, lower than the forecasted 3% change. Additionally, the labor market showed signs of cooling with continuing jobless claims coming in below forecast at 1,850 claims and initial jobless claims coming in as anticipated with 223,000 claims for the week.

Finally, on Friday, the Core Producer Price Index (PPI) and Michigan Consumer Expectations were released. The Core PPI for the month of March fell by 0.1%, indicating a potential decrease in the price of goods and services. Furthermore, consumer sentiment fell sharply in April, marking the fourth consecutive month of declines, with the University of Michigan’s consumer sentiment index dropping to 50.8.

Private Credit: Navigating Sponsored and Non-sponsored Lending

Private credit markets are experiencing substantial growth, providing investors with an expanding range of opportunities amid a decline in bank lending and evolving risk dynamics. According to Morgan Stanley, the private credit market was valued at approximately $1.5 trillion at the beginning of 2024, up from around $1 trillion in 2020, and it is projected to reach $2.8 trillion by 2028.

However, with opportunity comes complexity. Navigating these markets demands experienced managers, disciplined investors, and a deep understanding of risk. Those considering investments in private markets should prioritize managers who have effectively weathered multiple credit cycles.

Within private credit strategies, managers typically concentrate on either sponsor-backed lending or non-sponsor-backed lending. As private credit grows to become a larger part of investors’ portfolios, distinguishing between the various strategies becomes increasingly crucial.

Sponsor-backed private credit

Sponsor-backed private credit refers to financing arranged by private equity firms, or sponsors, to acquire companies or support the objectives of portfolio companies. In these arrangements, the private equity firm selects the target company for investment. Lenders involved in sponsor-backed transactions often focus heavily on the track record and reputation of the private equity sponsor, in addition to assessing the creditworthiness of the underlying borrower. Notably, sponsor-backed financing generally comes with more flexible terms, placing fewer restrictions on the borrower and allowing greater leniency regarding financial performance metrics. This type of structure is commonly referred to as “covenant-lite” in the private credit sector.

Non-sponsor-backed private credit

Private credit that isn’t backed by sponsors involves financing arrangements made directly between borrowers and lenders. In these transactions, the absence of private equity backing means that lenders must independently source deals and maintain a steady pipeline, along with strong underwriting capabilities and operational expertise. Additionally, these agreements typically come with more stringent covenants designed to better safeguard investors’ interests.

A study by S&P Global examined loans originated between 2014 and 2H 2020 and revealed that the median recovery rate for covenant-lite loans was 64.8%, compared to 98.7% for fully covenanted loans. This discrepancy highlights that, while loans with stricter covenants may experience more frequent defaults, they provide a better framework for protecting principal investments from losses resulting from those defaults.

As the private credit asset class continues to expand and mature, it’s important for investors to recognize the various nuances that come with the different types of private credit. Financing that is sponsor-backed versus non-sponsored requires distinct managerial expertise to effectively implement the strategy. Investors should not only pay attention to the specific investment approach but also place greater emphasis on selecting the right managers.

The market will be closed on Friday to observe Good Friday, making it a short week with limited economic data releases.

On Wednesday, we will receive the retail sales data, which is a crucial indicator of consumer spending. Consumer spending accounts for a significant portion of economic activity, making retail sales data an important measure of the economy’s health. This data helps investors and policymakers gauge potential inflationary pressures and adjust their strategies accordingly.

Also on Wednesday, Fed Chair Jerome Powell will deliver a speech. This event is particularly important due to the recent market volatility in both equity and bond markets stemming from the ongoing trade war. Investors will be closely monitoring Powell’s remarks for insights into the Federal Reserve’s future monetary policy and its approach to managing economic uncertainties. The verbiage Powell uses can significantly influence market sentiment and expectations regarding interest rates and economic stability.

This content was developed by Cambridge from sources believed to be reliable. This content is provided for informational purposes only and should not be construed or acted upon as individualized investment advice. It should not be considered a recommendation or solicitation. Information is subject to change. Any forward-looking statements are based on assumptions, may not materialize, and are subject to revision without notice. The information in this material is not intended as tax or legal advice.

Investing involves risk. Depending on the different types of investments there may be varying degrees of risk. Socially responsible investing does not guarantee any amount of success. Clients and prospective clients should be prepared to bear investment loss including loss of original principal. Indices mentioned are unmanaged and cannot be invested into directly. Past performance is not a guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange.

An alternative investments strategy is subject to a number of risks and is not suitable for all investors. Investing in alternative investments is only intended for experienced and sophisticated investors who are willing to bear the high economic risk associated with such an investment. Certain risks may include but are not limited to the following: loss of all or a substantial portion of the investment, short selling or other speculative practices, lack of liquidity, volatility of returns, absence of information regarding valuations and pricing, complex tax structures and delays in tax reporting.

Securities offered through Cambridge Investment Research, Inc., a broker-dealer, member FINRA/SIPC, and investment advisory services offered through Cambridge Investment Research Advisors, Inc., a Registered Investment Adviser. Both are wholly-owned subsidiaries of Cambridge Investment Group, Inc. V.CIR.0425-1490

Week in Review…

Market indexes declined last week as investors adjusted their future expectations in response to increasing global trade tensions.

• The S&P 500 declined -9.08%
• The Dow Jones Industrial Average dropped -7.86%
• The tech-heavy Nasdaq fell -9.77%
• The 10-Year Treasury yield closed at 3.99%

Last week, markets were transfixed by the sweeping tariffs presented by U.S. President Trump and the idea of an ever-escalating trade war. However, in the background, several key economic reports were released that might have been overlooked. Here is a summary of the important economic reports from last week.

The labor market data was significant. February’s Job Openings and Labor Turnover Survey (JOLTS) report showed fewer job openings than forecast, confirming a softening labor market. On Wednesday, the ADP Nonfarm Payrolls report for March came in higher than expected, adding 155,000 jobs compared to the expected 118,000, contrasting February’s underperformance. Friday’s Bureau of Labor Statistics Nonfarm Payrolls report confirmed March’s labor market strength, with employment changes beating forecasts, adding 225,000 jobs compared to the expected 137,000. The Private Nonfarm Payrolls report also exceeded expectations at 209,000. The Unemployment Rate for March ticked higher to 4.2%. Weekly employment data provided mixed signals, with continuing jobless claims higher than expected and initial jobless claims lower.

Survey data from the Services and Manufacturing industries was also notable. S&P Global revised both the Manufacturing and Services Purchasing Managers’ Indexes (PMI) upward, providing optimism. However, ISM Manufacturing and Services PMI data disappointed. The ISM survey, which focuses on larger companies and is based on data from purchasing and supply executives, indicated conflicting inflationary pressures. Manufacturing prices rose, while services prices fell.

Overall, last week’s data highlighted the complexity of the economy. The mixed signals from various reports suggest that market participants, including the Federal Reserve, will need to carefully navigate the ever-changing economic landscape. The contrasting data points underscore the importance of a nuanced approach to economic analysis and policy-making.

The Underrated Power of Mid-Cap Stocks: Growth, Returns, and Diversification

In the dynamic world of investing, mid-cap stocks offer a compelling blend of growth potential and relative stability, often overlooked despite their strong historical performance and diversification benefits. This article explores the key advantages of mid-cap investing, highlighting their outperformance, attractive risk-adjusted returns, growth potential, and diversification benefits, while also addressing their under-allocation and inherent risks.

A History of Outperformance and Enhanced Risk-Adjusted Returns

Historically, mid-cap stocks have demonstrated a strong track record of outperforming both large and small-cap equities. MSCI data shows the MSCI World Mid Cap Index surpassed both larger and smaller companies between October 2008 and October 2012. This trend is further supported by SPDR’s analysis of the S&P MidCap 400 between beginning in 1994, which reveals an average annualized excess return of 1.12%. Specifically, the S&P MidCap 400 has outperformed the S&P 500 (large caps) by 2.03% and the S&P SmallCap 600 by 0.92% annually since December 1994 (through 2018). This long-term data underscores mid-caps’ potential for delivering strong returns relative to the risk taken, often exhibiting enhanced risk-adjusted returns.

However, recent performance has seen a shift, with the S&P 500 outperforming both small and mid-caps in the last five years. This outperformance in large-cap stocks was particularly pronounced after March 2020, coinciding with the Federal Reserve’s interest rate cuts that significantly benefited high-growth technology stocks, a large component of the S&P 500. Despite this recent divergence, the longer-term historical data still highlights the compelling risk-adjusted return potential of mid-cap investments over extended periods.

The Sweet Spot: Balancing Growth and Stability

Mid-cap stocks occupy a unique middle ground, offering a balance between the high growth potential of small caps and the relative stability of large caps. MSCI notes that mid-caps provide higher growth potential than large caps with more stability than small caps. These companies are often in a significant expansion phase, possessing the agility to pursue growth while having established a degree of operational maturity. SPDR supports this, describing mid-caps as nimble with high growth potential alongside more established management. This blend positions mid-caps as attractive for investors seeking growth without the higher volatility often associated with smaller, less proven entities.

An Overlooked Opportunity: The Under-allocation of Mid-Caps

Despite their historical performance and growth profile, mid-cap stocks are frequently under-allocated in investment portfolios compared to small-caps. Data indicates similar allocation proportions despite mid-caps representing roughly twice the market capitalization of small-caps. This under-allocation, particularly in active funds, suggests a potentially overlooked segment offering opportunities for investors.

Enhancing Portfolio Diversification

Incorporating mid-cap stocks into an investment portfolio can significantly enhance diversification and potentially improve overall risk-adjusted returns. MSCI’s research indicates that including mid-caps can lead to superior risk-adjusted performance by providing exposure to a distinct market segment. SPDR’s analysis supports this, demonstrating that mid-caps can improve returns without a corresponding increase in volatility, resulting in better Sharpe and Sortino ratios compared to small caps. The inclusion of the S&P MidCap 400 in a multi-asset portfolio has been shown to offer better diversification benefits. The chart below indicates that S&P MidCap 400 currently provides a greater level of diversification out of the technology sector.

Potential Downside Risks and Volatility

While offering compelling benefits, mid-cap stocks also carry inherent risks. Compared to large-caps, they often have fewer financial resources, making them more vulnerable during economic downturns. Saxo Bank notes their generally higher volatility compared to larger companies due to their size and less established markets. They can also have a narrower focus, increasing sector-specific risks and tend to have less analyst coverage. Investors should be aware of this potentially higher volatility compared to large-caps.

Conclusion

Mid-cap stocks offer a compelling combination of historical outperformance, attractive risk-adjusted returns, significant growth potential, and valuable diversification benefits. While acknowledging recent large-cap strength and the inherent risks of the asset class, the evidence suggests that a strategic allocation to mid-caps can be a valuable component of a well-rounded investment portfolio, potentially enhancing long-term growth and overall performance.

Russell 2000^® Index: The Russell 2000^® Index measures the performance of the 2,000 smallest companies in the Russell 3000^® Index, representing the small-cap segment of the U.S. equity market. It is widely regarded as a bellwether for the U.S. economy due to its focus on smaller companies. The index is managed by FTSE Russell and is designed to provide a comprehensive and unbiased barometer for small-cap stocks.

S&P SmallCap 600^® Index: The S&P SmallCap 600^® Index seeks to measure the small-cap segment of the U.S. equity market. It includes 600 companies that meet specific inclusion criteria to ensure liquidity and financial viability. The index is designed to track companies with market capitalizations ranging from $850 million to $3.7 billion, providing a benchmark for small-sized companies.

S&P MidCap 400™ Index: The S&P MidCap 400™ Index measures the performance of 400 mid-sized companies in the U.S. equity market. It is a market-capitalization-weighted index that reflects the distinctive risk and return characteristics of mid-cap stocks. The index is designed to provide investors with a benchmark for mid-sized companies, balancing growth potential and stability.

Russell Midcap Index: An index that measures the performance of the mid-cap segment of the U.S. equity market. It includes approximately 800 of the smallest companies in the Russell 1000 Index, representing about 27% of the total market capitalization of the Russell 1000. The index is designed to provide a comprehensive and unbiased barometer for the mid-cap sector, balancing growth potential and stability. It is reconstituted annually to ensure it accurately reflects the mid-cap market segment.

Works Referenced:

Bartolini, Matthew J and SPDR Americas Research. “Mid Caps Can Make a Positive Difference in Performance.” SPDR Americas Research, n.d.

Bellucci, Louis, Hamish Preston, Aye M. Soe, and S&P Dow Jones Indices LLC. “The S&P MidCap 400: Outperformance and Potential Applications.” Report. The S&P MidCap 400: Outperformance & Potential Applications, June 2019. https://www.spglobal.com/spdji/en/documents/research/research-sp-midcap-400-outperformance-and-potential-applications.pdf.

Kayne Anderson Rudnick Investment Management. “The Case for Mid-Caps,” 2024.

Ruban, Oleg, Zoltán Nagy, Jose Menchero, and MSCI Applied Research. “Global Market Report: The Mid Cap Effect.” Report. Global Market Report, December 2012.

Saxo Bank A/S (Headquarters). “Mid-cap Stocks: What They Are and Why You Should Care,” n.d. https://www.home.saxo/learn/guides/equities/mid-cap-stocks-what-they-are-and-why-you-should-care.

This week is packed with significant economic releases. On Monday, the Federal Reserve will release the monthly change in the total value of outstanding consumer credit, providing insights into consumer borrowing trends. Tuesday will see the American Petroleum Institute reporting inventory levels of crude oil, petrol, and distillate, which are crucial indicators for the energy market. The Federal Open Market Committee (FOMC) meeting minutes will be published on Wednesday, offering a detailed account of the discussions and decisions made during the latest policy meeting. Thursday brings the initial jobless claims and Core Consumer Price Index (CPI) data, both of which are key indicators of the labor market and inflation trends. Finally, on Friday, the Core Producer Price Index (PPI) and Michigan Consumer Expectations will be released, shedding light on producer inflation and consumer sentiment, respectively. This array of data will provide a comprehensive view of the current economic landscape.

This content was developed by Cambridge from sources believed to be reliable. This content is provided for informational purposes only and should not be construed or acted upon as individualized investment advice. It should not be considered a recommendation or solicitation. Information is subject to change. Any forward-looking statements are based on assumptions, may not materialize, and are subject to revision without notice. The information in this material is not intended as tax or legal advice.

Investing involves risk. Depending on the different types of investments there may be varying degrees of risk. Socially responsible investing does not guarantee any amount of success. Clients and prospective clients should be prepared to bear investment loss including loss of original principal. Indices mentioned are unmanaged and cannot be invested into directly. Past performance is not a guarantee of future results.

The Dow Jones Industrial Average (DJIA) is a price-weighted index composed of 30 widely traded blue-chip U.S. common stocks. The S&P 500 is a market-cap weighted index composed of the common stocks of 500 leading companies in leading industries of the U.S. economy. The NASDAQ Composite Index is a market-value weighted index of all common stocks listed on the NASDAQ stock exchange.

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